Edited version of your written advice

Authorisation Number: 1051322294569

Date of advice: 19 December 2017

Ruling

Subject: Rental property repairs

Question 1

Are you entitled to a deduction for the cost of replacement of a roof?

Yes.

Question 2

Are you entitled to a deduction for the cost of repairing a kitchen?

Answer:

No

Question 3

Are you entitled to a deduction for capital works for the cost of replacing a kitchen?

Yes.

This ruling applies for the following period

Year ended 30 June 2017

The scheme commenced on

1 July 2016

Relevant facts

You own a rental property.

The property has been continually rented for a number of years.

During the 2016-2017 income year, two areas of repairs were carried out on the building:

● the roof – the removal and replacement of roof sheeting,

● the kitchen – cabinets, shelves, flooring and ceiling were replaced

You did not receive insurance or any other type of payment for the works carried out.

Roof repairs

The condition of the roof prior to the repairs being performed was poor.

The roof was rusty and leaking over the bathroom and back bedroom.

On inspection the roofer advised total roof failure and all sheets required repair.

The roof was sheeting was replaced with the same type of material.

Kitchen

The kitchen cabinets were made of many decades old, unsealed chipboard which had decayed over time and the shelves were breaking.

You obtained a hazard inspection as required by tenancy legislation prior to any repairs commencing and were advised that total demolition was required due to an asbestos hazard.

It was not possible to repair a section of the kitchen as the cabinets were screwed into asbestos walls so removing the kitchen cabinets risked making the asbestos particles airborne and so the kitchen and all of the wall sheeting required removal by asbestos specialists, and the walls re-sheeted with gyprock.

Removing the walls risked making the asbestos in the ceiling airborne, so the ceiling and insulation was also removed and replaced.

Tiles had been laid on asbestos sheeting on the kitchen floor after the cabinets had been installed which required the floor tiles and sheeting to be removed to the timber floorboards, to allow removal of the cabinets without damaging the asbestos.

Melamine cabinets and a laminate benchtop were used to repair unsealed chipboard and laminate benchtop.

The kitchen layout was modified to standard cabinet sizes (to reduce costs). One cabinet was not replaced to allow a space for a dishwasher and dishwasher taps and a power point were added.

Relevant legislative provisions

Section 25-10 of the Income Tax Assessment Act 1997

Section 8-1 of the Income Tax Assessment Act 1997

Section 43-10 of the Income Tax Assessment Act 1997

Subsection 43-25(1) of the Income Tax Assessment Act 1997

Subsection 43-70(1) of the Income Tax Assessment Act 1997

Reasons for decision

Section 25-10 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a deduction for the cost of repairs to a rental property.

To be eligible to claim such an expense you must be holding the property for the purpose of gaining or producing assessable income, and the expenses must not be capital in nature.

Repair costs are deductible where they are incurred during the period the property is held for income producing purposes, and are attributable either to damage that occurs during your income producing use of the property or to defects that emerge suddenly during that time.

The meaning of repairs

The term repairs is not defined in section 25-10 of the ITAA 1997. Therefore, it is necessary to look at its ordinary meaning. Paragraph 13 of Taxation Ruling TR 97/23 states the following:

The word ‘repairs’ has its ordinary meaning. It ordinarily means the remedying or making good of defects in, damage to, or deterioration of, property to be repaired (being defects, damage or deterioration in a mechanical and physical sense) and contemplates the continued existence of the property.

At paragraph 44, the ruling goes on to state:

In the case of a repair, broadly speaking, the work restores the efficiency of function of the property without changing its character.

Repair is distinct from renewal or replacement

Renewal, replacement, or reconstruction of, the whole or substantially the whole of a thing or structure (entirety) is likely to be considered a capital improvement rather than a deductible repair.

What is an entirety?

Determining what is an entirety is a question of fact in each case. According to TR 97/23, property is more likely to be an entirety if:

The property is separately identifiable as a principal item of capital equipment.

The thing or structure is an integral part, but only a part, of entire premises and is capable of providing a useful function without regard to any other part of the premises.

The thing or structure is a separate and distinct item of plant in itself from the thing or structure which it serves, or

● The thing is a unit of property as that expression is used in the depreciation deduction provisions of the income tax law.

● In the case of W Thomas & Co Pty Ltd v. FC of T (1965) 115 CLR 58; (1965) 14 ATD 78; (1965) 9 AITR 710, which involved a claim for general repairs to a building, it was said that the question was not whether the roof or floor or some other part of the building, looked at in isolation, was repaired, as distinct from wholly reconstructed, but whether what was done to the floor or the roof was a repair to the building. It was held that the roof would be considered to be part of the building and the work done on the roof was a repair. This view is confirmed in TR 97/23 at paragraph 40.

Improvement or repair

When work is done to restore or fix a damaged item, we need to determine if the work undertaken is a repair or an improvement. Repairs generally restore the item to its former function and efficiency whereas improvements increase an items functionality and/or efficiency.

A repair may increase the items efficiency slightly and still be classed as a repair. However, where the item’s function or efficiency is improved substantially or the work changes the function of the item, the work is considered to be an improvement and capital in nature.

Replacement roof

In your case, the roof was in a poor condition. The roof was rusty and leaking over the bathroom and back bedroom.

The new roof sheeting was an exact replacement of the existing material. The roof was merely repaired by its modern equivalent and to restore the original function.

Paragraph 40 of TR 97/23 specifically states that a roof is only part of a building and does not constitute an 'entirety'. The building itself is the 'entirety'.

The required work to rectify the problem is not an initial repair, is not the replacement of an entirety, and is not an improvement.

Therefore, when you are replacing the roof, the work carried out is a repair, and deductible under section 25-10 of the ITAA 1997.

Kitchen

The kitchen in poor condition due to wear and tear over a long period of time, including decaying chipboard and broken shelves.

The work involved included replacement of all cabinets and shelving, flooring and ceiling. Existing materials were replaced with equivalent new materials.

In Case W77 89 ATC 698; (1989) 20 ATR 3888 the owner of a rental property was denied a deduction for a remodelling of a bathroom, amongst other expenditure, where repair was needed because of age, deterioration and general wear and tear. It was held that the work done in remodelling the bathroom was extensive and could be described as a complete renovation designed to improve the unit rather than simply to restore it.

In your case, you replaced the entire kitchen, which indicates a renovation rather than a repair. Remedying defects would be limited to repairing or replacing individual damaged items, such as replacing only the damaged tiles and malfunctioning cisterns. Although your intention may have been to restore the efficiency of function of the items replaced, you have gone beyond repairing worn items to a complete renewal of the kitchen as a whole.

Therefore, when you are replacing the kitchen, the work is considered to be a capital improvement and is not deductible as a repair under section 25-10 of the ITAA 1997.

Section 43-10 of the ITAA 1997 operates to provide a deduction for capital expenditure on capital works used to produce assessable income. A deduction under section 43-10 of the ITAA 1997 is based on the amount of construction expenditure. This is defined in subsection 43-70(1) of the ITAA 1997 as capital expenditure incurred in respect of the construction of the capital works.

Capital works include buildings and structural improvements or an extension, alteration or improvement to a building. This includes the complete replacement of a kitchen or bathroom, which is a replacement of an entirety and therefore capital in nature.

Subsection 43-25(1) of the ITAA 1997 provides that the rate of deduction for capital works which began after 26 February 1992 for a rental property is 2.5%. A deduction cannot be made until the completion of the capital works.

In your case, you replaced the kitchen in its entirety. Therefore, you are entitled to a deduction for capital works expenses incurred in replacing the kitchen.